Introduction

According to the Comprehensive Annual Financial Report (CAFR) - 2007, the Kentucky Retirement Systems consists of three systems: the Kentucky Employee Retirement system (PERS); County Employee Retirement System (CERS) and the State Police Retirement System (SRPS).
KERS was created in 1956 by the Kentucky General Assembly in order to supplement the benefits provided by Social Security. When the first actuarial valuation was completed June 30, 1957, there were 16,000 employees participating in KERS and assets of $2.8 million. SPRS and CERS were established in 1958. The first actuarial valuation of SPRS was conducted June 30, 1959. No actuarial valuation of CERS was conducted until June 30, 1960 because the statutes did not authorize retirements from the system prior to July 1, 1960. On June 30, 1960, there were 68 counties and 2,617 employees participating in CERS, and SPRS included 415 uniformed state troopers.

Membership

As of June 30, 2007, there were more than 316,000 active, inactive and retired members in the combined systems and approximately $16.9 billion in assets.
Employees who work in a regular full time position for a participating agency must be enrolled in the retirement system at the beginning of their employment. A regular full-time position is defined as positions that average 100 hours of work per month over a fiscal or calendar year, excluding the classifications of temporary, seasonal, and interim. For school board employees, a regular full-time position is defined as a position that requires the employee to average 80 hours of work per month over the actual days worked during the school year.

KRS received an increase in the employer contribution rate for the 2006-2007 and the 2007-2008 fiscal years. While this was the first increase in the KERS and SPRS employer rates since 2001, contributions remained far short of the actuarial recommended rates.

Benefits

The retirement plans administered by KRS are qualified public defined benefit plans and were established under Section 401a of the Internal Revenue Code (IRC). Benefits are based on a formula, rather than on an account balance. The formula used to compute KRS benefits provides participating members with a guaranteed lifetime payment at retirement based on the number of years of service, your average salary and a multiplying factor.

Kentucky Retirement Systems benefits are funded through three sources: employee contributions deducted from an employee's compensation, employer contributions paid by each state and county agency participating in the retirement systems, and return on investments.

Kentucky Retirement Systems commenced self-funding of healthcare benefits for its Medicare eligible retirees on January 1, 2006. A self-funded plan is one in which Kentucky Retirement Systems assumes the financial risk for providing healthcare benefits to its retirees. The self-funded plan pays for claims out-of-pocket as they are presented instead of paying a pre-determined premium to an insurance carrier for a fully-insured plan. Kentucky Retirement Systems funds the risk directly from its assets. Kentucky Retirement Systems becomes directly responsible for administering benefits under the plan.

In 2006 KRS offered five new health plans to its Medicare eligible retirees. Three of those offerings were self-insured products and two were Anthem Medicare Advantage plans.
Beginning in January 2007 the Anthem Medicare Advantage plans were no longer offered to retirees. This first year saw a 5% increase in generic drug utilization and an overall medical trend in single digits. KRS has supported the Center for Medicare and Medicaid Services’ (CMS) preventive screening initiatives for Medicare eligible retirees and participated in the Retiree Drug Subsidy (RDS) program also offered by CMS. The RDS program realized a $13.5 million reimbursement for KRS from CMS for providing pharmaceutical coverage to its retirees.

Contributions

Non-hazardous employees who are eligible to participate in the retirement systems contribute 5% of creditable compensation. Employees eligible to participate in the retirement systems who are working in a hazardous duty position approved by the KRS Board of Trustees contribute 8% of total creditable compensation.

Note: Individual agencies must petition the KRS Board of Trustees to approve certain positions for hazardous duty coverage. The Board will determine if the position meets the definition of "hazardous" as provided by Kentucky Revised Statute 61.592.

The following employer rates effective July 1, 2006, were recommended and consequently adopted as a result of the actuarial valuation and actions of the 2006 Regular Session of the General Assembly:

Employer Rates for the 2006-2007 Fiscal Year

KERS (non-hazardous employees) 7.75%

KERS (hazardous employees) 22.00%

CERS (non-hazardous employees) 13.19%

CERS (hazardous employees) 28.21%

SPRS 25.50%

Note that: House Bill 380 passed during the 2006 Regular Session of the General Assembly reduced the employer contribution rate from the amount recommended by the Board and its' consulting actuary.

For financial year 2009-2010, employer contribution rates were revised to the following effective July 1, 2009:

KERS (non-hazardous employees) 11.61%

KERS (hazardous employment) 24.69%

CERS (non-hazardous employees) 16.16%

CERS (hazardous employees) 32.97%

SPRS 33.08%*

Investments

The Board of Trustees of the Kentucky Retirement Systems has a statutory obligation to invest KRS’ funds in accordance with the “prudent person rule.” The prudent person rule states that fiduciaries shall discharge their investment duties with the same degree of diligence, care and skill that a prudent person would ordinarily exercise under similar circumstances in a comparable position.

The Board manages the funds in recognition of the basic long-term nature of the Systems. The Board interprets this to mean that the assets of the systems should be actively managed — that is, investment decisions regarding the particular securities to be purchased or sold shall be the result of the conscious exercise of discretion.
The Board further recognizes that proper diversification of assets must be maintained. It is through these policies that KRS has been able to provide significant return/risk ratio over the long-term while minimizing investment related expenses.

The pension and insurance investment trusts experienced positive growth during the 2006-2007 fiscal year. The pension portfolio posted a total return of 15.3% for the year, while the insurance portfolio earned 19.3%. Investment income, which includes the appreciation of asset values, dividends, and interest totaled $1,909.2 million and $421.7 million, net of investment expenses, for the pension and insurance portfolios, respectively. The majority of this amount was due to the appreciation in value of investments, which totaled $1,507.8 million for the pension portfolio and $366.8 million for the insurance fund. Interest and dividends accounted for $420.7 million for the pension portfolio and $57.4 million for the insurance portfolio.

Actuarial Funding

Pension Funds

The Kentucky Retirement Systems’ funding objective is to meet long-term benefit promises through contributions that remain fairly level as a percent of active member payroll. The progress towards achieving the intended funding objectives for both the pension and insurance funds can be measured by the funding level of the actuarial assets of each fund to the actuarial liabilities. The funding level is defined relative value of a systems assets and liabilities expressed as a percentage figure. The funding levels for the pension funds as of June 30, 2007 were:

56.89% for KERS Non-Hazardous

83.59% for KERS Hazardous

82.11% for CERS Non-Hazardous

74.22% for CERS Hazardous

63.66% for SPRS.

The combined plan net assets of all pension funds administered by Kentucky Retirement Systems increased by $1,276.1 million during the 2006-2007 fiscal year.

Covered payroll for 2006-2007 was $4,484.4 million compared to covered payroll for the 2005-2006 plan year of $4,348 million, increasing approximately $136.4 million.

The corresponding employer contributions increased by $131.2 million for a total employer contribution amount of $601.1 million. Of the total employer contribution amount, $293.4 million was posted to the pension funds while $307.7 million was posted to the insurance fund.

Contributions paid by employees were $300.3 and $275.9 million respectively for the fiscal years ended June 30, 2007 and June 30, 2006. This increase in employee contribution is a result of an increase in covered payroll and an increase in service purchased by employees.

The net appreciation in the fair value of investments was $1,507.8 million for the fiscal year ended June 30, 2007 compared to net appreciation of $803.6 million for the prior fiscal year.

Included in this net appreciation were realized gains on sales of investments of $870.7 million. In comparison, the pension funds realized gains of $601.6 million for the fiscal year ended June 30, 2006. The increase in realized gain experienced by the pension funds was due to a favorable change in market conditions.

Interest, dividend and securities lending income net of their respective expenses was $407.9 million compared to $358.8 million net investment income in last fiscal year.

Pension benefits paid to retirees and beneficiaries increased $124.5 million bringing total benefit payments to $1,187.1 million. Refund of contributions paid to former members upon termination of employment increased from $24.9 million to $25.2 million.

Administrative expense increased $.7 million totaling $21.1 million compared to $20.4 million in the prior year.

Investment Funds

The insurance funds, which were established in 1978 to provide funding for retiree medical benefits, have improved in recent years due to the Board’s policy of incrementally increasing employer contributions to the funds in order to reach full entry age normal cost by 2016. However, the insurance funds are not at the same funding levels as the pension funds. The funding levels for the insurance funds as of June 30, 2007 were:

11.94% for KERS Non-Hazardous,

49.82% for KERS Hazardous

28.80% for CERS Non-Hazardous

31.15% for CERS Hazardous

16.62% for SPRS.

The insurance funds continue to be a primary concern of the Kentucky Retirement Systems. Total actuarial liabilities for the funds exceed the actuarial value of the assets by $8.66 billion.

The combined plan net assets of the insurance fund administered by Kentucky Retirement Systems increased by $530.6 million during the 2006-2007 fiscal year.

Premiums received from retirees that participated in the self-funded plan totaled $26.6 million.

Employer contributions of $307.7 million were received. This was an increase of $54.3 million over the prior fiscal year. This increase is due to the increase of covered payroll reported by participating employers and the employers’ increased percentage of covered payroll contributed.

Retiree Drug Subsidies received were $21.5 million.

The net appreciation in the fair value of investments was $366.8 million compared to net appreciation of $188.2 million for the prior fiscal year. Included in this net appreciation were realized gains on sales of investments of $129.5 million. In comparison, the insurance funds realized gains on investments of $77.9 million in the prior fiscal year. This increase in realized gains was due to a favorable change in market conditions.

Interest, dividend and securities lending income net of their respective expenses was $56.6 million compared to net investment income of approximately $42.6 million in last fiscal year.